When I was in college I was fortunate enough to snag an internship at one of the big brokerage houses. This plum assignment was not nearly as glamorous as it sounds, however, as I spent most of my time helping out in the mailroom. During one particularly slow day I answered a call from someone in Investment Banking who needed letterhead and report covers ASAP because they were working on an important client presentation for that afternoon. I was still pretty new and didn't know much about the business, but "Investment Banking" sounded like important work. So I hung up the phone, grabbed a couple of reams of letterhead and a box of report covers and was about to head out and deliver these much needed and critical supplies on the double when I was stopped by one of the more "experienced" mailroom clerks. He had overheard at least some of my end of the phone conversation.
"Dude, what do you think you're doing?"
"Well, ah, they need some letterhead and stuff up in Investment Banking so I'm taking it to them."
"Dude…(rolls eyes)….sit down. You're busy."
"Ah, no I'm not…I'm just….. reading the paper."
"Exactly. You're busy."
"But this seems a lot more important…"
(exasperated) "It's ALWAYS a lot more important! Listen dude, it's like this. If you respond to every little request the first time they call, then they will expect you to respond on the first call EVERY TIME…. So sit down, read your paper and wait. They will call again and then 5 or 10 minutes later you can take it up there"
"Well that's just plain stupid."
"Trust me, they will thank you for taking time out of your busy schedule when you finally bring em what they called for."
I shook my head in disbelief and delivered the goods right away. But I've always remembered that little exchange because what my misguided co-worker was crudely trying to point out is that it's critically important to manage expectations on future performance.
During Earnings Season that's called "guidance". At least that's the obvious performance management tool. Another way we can form expectations is, like the above scenario, from past experience. Of course, a myriad of other data points such as reported sales, earnings and numbers from supply chain vendors, anecdotal experience, etc… all help us parse our expectations to try and take as much surprise out of the actual performance figures as possible when they are finally reported.
So now to Apple.
Following a rare earnings miss (vs. lowered street consensus), which was in fact it's second earnings "miss" in a row, Apple (AAPL) has previously guided to December quarter revenue of $52 billion and earnings of $11.75 per share. Although the company has a history of lowballing its guidance, these numbers were much lower than many of even the most pessimistic on the Street. This, in addition to an already negative mojo on the stock caused by rumors of supply chain bottlenecks and labor unrest due to working conditions at FoxConn, added to selling pressure which has not, save for a brief respite in November, let up since.
Almost everyone expects Apple to beat its own guidance, and in fact they do so with such regularity that a "whisper beat" is often needed to act as a catalyst on the stock price. However, with two consecutive quarters of consensus misses, lowball (even for them) guidance, and recent reports of supply chain production cuts, it seems as if expectations are now so underwhelming that just meeting, or even barely exceeding Street consensus may well be considered as good as any "beat" in the past.
However I believe this also sets the table for a nice upside move should the company solidly outperform street revenue and earnings expectations and I think this is EXACTLY what is going to happen.
iPhone demand was extremely strong in the December quarter. AT&T (T), Verizon (VZ) and Sprint (S) all reported strong sales of smartphones for the quarter and various analysts have estimated that these "Big Three Telecoms" likely sold a combined 15-16 million iPhones. In particular, Verizon specifically noted its solid iPhone sales. If, as has been the case historically, the Big Three account for 30% of global sales, that gives us an approximation of about 52-54 million iPhones sold for the quarter, as compared to street consensus of 48-49 million. Strong iPhone sales will also improve gross margin as ramp up costs associated with new product development are incrementally absorbed by each sale.
In similar fashion, I am calling for 21-22 million iPads with 6 million of those being iPad Minis. Far from being a drain on standard iPad sales, see my explanation here on why these units will likely be taking market share from Google (GOOG) and Samsung tablets, as well as Amazon's (AMZN) Kindle and Barnes and Noble (BKS) Nook e-readers.
Despite lowered expectations, Apple will likely report quarterly sales of 52-54 million iPhones and up to 22 million iPads, resulting in revenue of $55 billion, and earnings north of $14/share. At this point margins, though above Apple's 36% guidance and improving, will remain constrained at around 39% due to overhang from new product development last quarter.
Finally, what can we expect for guidance going forward? Well first, it's clear that the Street expects margins to revert back to the mean (north of 40%) as a sign that all is well going forward in Cupertino. Therefore it is critical that management shows some confidence that quarter over quarter improvement will take place as production development costs for the product refresh are absorbed through incremental sales.
Currently, consensus estimates of revenue and earnings for the March quarter are $46.5B, and $12/share respectively. Of course, the company has historically guided between 5% and 10% below consensus on revenue and 15%-25% below consensus on earnings. So, using those metrics, expect something in the neighborhood of $42-$43B guidance on revenue and (due to higher expected margins) earnings of around $10.50-$11/share.
Of course, this is just Apple's way of trying to manage our expectations to the point where, when they deliver what we expected in the first place, we are thankful for their outstanding performance.